External Reference Pricing and Parallel Imports of Pharmaceuticals: A Policy Comparison

Governments across the world constantly use a variety of measures to contain drug costs in order to increase patient access to critical medications. External Reference Pricing (ERP), or international price comparison, is a commonly employed policy to control prices of pharmaceuticals. External Reference Pricing uses the price(s) of a medicinal product in one or several countries in order to derive a benchmark or reference price for the purposes of setting the price of the product in a given country. Despite potential drawbacks, empirical studies show ERP has been successful in reducing drug prices. Another strategy that can reduce drug prices is legalizing parallel imports of drugs from low‐price countries. Motivated by the differences between government policies and the absence of national price management policies in the Unites States, in this study we compare the effects of implementing ERP or authorizing parallel imports on firm profit and different social welfare measures. We find that authorizing parallel imports can result in higher firm profit and/or social welfare than using ERP. We also examine, in a decentralized supply chain, two variations of ERP that are used in practice, the ex‐factory‐based ERP and the pharmacy purchase price (PPP)‐based ERP. We show that despite the ex‐factory‐based ERP being more common, PPP‐based ERP can increase both firm profits and social welfare. Therefore, governments should consider using PPP‐based ERP policies. Our findings help generate insights for ongoing policy discussions around measures for controlling drug prices in the United States.